Recommended Posts

It was a time when the media was Â­obsessed with duck ponds, moats and flipped houses, so the announcement on 21 May that the credit rating agency Standard & Poor's had put the UK on negative watch received less attention than it might have done.

It certainly does not seem to have penetrated the brain of the prime minister, who wants to fight the next election on the basis of Labour investment against indiscriminate Conservative spending cuts.

This is both dishonest and foolish. Dishonest because the government's own plans involve real cuts in spending for many departments once inflation is taken into account and a halving of capital investment in the three years after 2011-12. Foolish not just because it treats voters as idiots, but because the suggestion that Brown is not taking the dire state of the public finances seriously risks incurring the wrath of the credit-rating agencies. And that would have severe consequences.

Being put on negative watch is a warning to the Treasury that the rating agency wants a credible plan in place for reducing government borrowing. Otherwise, it will downgrade Britain's sovereign debt, which it currently rates at the maximum, AAA.

Losing an AAA rating involves more than simply a loss of face. The interest rate Britain has to pay to borrow in the global markets depends on how creditÂ­worthy the country is perceived to be: the higher the rating, the lower the borrowing cost. A downgrade to Britain would be a humiliation for the government: the equivalent of the IMF imposing spending cuts in the autumn of 1976 or sterling being blown out of the exchange rate mechanism in September 1992.

It is hard to believe that the prime minister would find that an attractive proposition in the run-up to an election, but this is Britain, the country that never tires of bubble economics.

Here's the position. In the decade or so leading up to the financial crisis of 2007, there was a rapid increase in household debt. It was the willingness of consumers to borrow, confident as they were that house prices would forever spiral upwards, that underpinned growth.

Consumers are now confronted with a much changed world, in which house prices can fall as well as rise, in which it is less easy to borrow, and in which the threat of unemployment has returned. Having run down their savings, households are building them up again.

The impact of this belt-tightening is reflected in weaker consumer spending and in lower economic growth. Private-sector debt was the engine of growth in the boom years but it has now cut out. Its place is being taken by public-sector debt in the hope that borrowing by the state can lead to a shallower recession than would otherwise be the case.

But shifting the locus of debt away from the consumer and on to the state is a short-term palliative rather than a long-term cure to Britain's debt habit. Allowing the budget deficit to balloon during a recession is sensible; indeed, there are economists such as Paul Krugman who argue that Labour could have been even bolder with its fiscal stimulus package.

This is a debatable point; for Krugman to be right the increased stimulus would need to produce faster and stronger growth in order to persuade the credit-rating agencies and the financial markets more generally that borrowing would come down more quickly as economic activity picked up. Otherwise, fears about the sustainability of the public finances would lead to higher long-term interest rates, choking off recovery.

Deficit surge

What is not at issue is the need for a fiscal plan that will eventually reduce borrowing and debt. It is inconvenient to say so with an election looming, but Alistair Darling and George Osborne both know that substituting dependency on public borrowing for personal debt merely exchanges one fantasy world for another. Consumers are savvy enough to know they will pay one way or another, because they pay taxes and use public services.

Brown's view is that the public finances were in good shape when he left the Treasury two years ago, and that the Â­recession is to blame for this year's Â£175bn deficit.

The prime minister should not be allowed to get away with such tosh: Britain was running big deficits even when the economy was at the height of an unsustainable boom.

"Despite several years of above-trend economic growth, the UK enters this recession with one of the highest structural deficits of any large developed country," the Economist Intelligence Unit said last week. "With a budget Â­deficit already estimated at 5-6% of GDP in 2008, the government's room for Â­fiscal manoeuvre is limited. However, it has passed substantial stimulus Â­measures, and this, together with stabilisation measures for the financial sector and the hit from weaker growth, means that the deficit is likely to surge to 15% of GDP in 2010.

"As a consequence of the weaker fiscal position, Standard & Poor's, a credit-rating agency, has put the UK's sovereign debt rating, currently at AAA, on negative outlook, and a downgrade seems likely."

John Hawksworth, the chief economist at PricewaterhouseCoopers, says that Britain can avoid the indignity of a downgrade, but only if the Treasury takes tougher action to rein in the deficit in the next parliament.

The existing proposal is that the structural budget deficit â€“ everyday spending by the state adjusted for where Britain is in the economic cycle â€“ should be cut to 3.2% of GDP by Â­2015-16. Hawksworth thinks a credible plan for repairing the national finances would require a deficit that was half as big, 1.6% of GDP.

"To fill this fiscal gap without further tax rises we estimate that total departmental spending might need to be cut by around 11% in real inflation-adjusted terms in the next three years to 2013-14 (about twice as large a real cut as our estimate of what is implied by current budget plans). If health is protected, then other departmental spending would need to be cut by around 15% in real terms."

Cuts of this size amount to an average of about Â£1,600 for every household in Britain at today's values. The alternative to spending cuts would be tax increases of an equivalent size.

Brown is delusional, I think he really does believe he was a financial genius as Chancellor as he believes his own lies.

Share this post

Link to post

Share on other sites

Like the US, the Uk's credit rating is a joke - it's based on their ability to coerce money out of a lot of peopel who have worse credit than the state does.

P O N Z I

And since when did the imaginary gobstopper eater have any credibility?

The ratings agencies are just making noises in a bid to appear credible .. a downgrade of the UK or US will be suicide for them as well and they know it .. why should these two countries have an AAA rating when they are printing money .. its a disgrace. Its pure self preservation. There should be no excuse to print money .. If you need a fiscal stimulus, do it out of your reserves, failing that, borrow and spend.. but printing your fiscal stimulus should immediately make you a pariah among borrowers !!

Share this post

Link to post

Share on other sites

It's an inditement of our society that the Consevatives can't say that they will cut public spending as that will scare most voters into voting Labour. In our culture of spend today and spend more tomorrow the great British public feel that they can carry on borrowing forever ... There is only one outcome to that approach .... Bankruptcy!

Share this post

Link to post

Share on other sites

The ratings agencies are just making noises in a bid to appear credible .. a downgrade of the UK or US will be suicide for them as well and they know it .. why should these two countries have an AAA rating when they are printing money .. its a disgrace. Its pure self preservation. There should be no excuse to print money .. If you need a fiscal stimulus, do it out of your reserves, failing that, borrow and spend.. but printing your fiscal stimulus should immediately make you a pariah among borrowers !!

Rant over

I completely misread that as 'clowngrade' before realising that was entirely appropriate